Watch out for the COCOA chart. What's next for the price?

• The cocoa market is preparing for futures contract rollovers
• On the market, we are observing the largest backwardation in history, looking at the difference between the two nearest contracts
• Liquidity in futures contracts is decreasing on the September contract and increasing on the December contract

Fundamental situation on the cocoa market

The cocoa market is currently experiencing increased volatility, which is related, among other things, to a further sharp decline in stocks on exchanges and a drop in deliveries to ports in Ivory Coast. It is worth remembering that in May, the ICCO predicted a deficit of over 400,000 tons, which is expected to be the largest deficit in history. However, changing weather indicates that the harvest in the main season, which begins in October, should be larger. Hence, there is a huge difference in the nearest traded futures contracts. This difference is almost 1500 USD!

Fundamental situation on the cocoa market. It is predicted that this season the deficit will reach over 400,000 tons. On the other hand, in the next season, some predict the possibility of a slight surplus. Source: Bloomberg Finance LP, XTB

Cocoa stocks continue to decline sharply, which is related to the huge deficit and deliveries to Ivory Coast ports, which are even 30% lower compared to the previous season. Source: Bloomberg Finance LP, XTB

Watch out for the cocoa chart! A huge rollover is coming

Looking at the forward curve in the cocoa market, we observe a huge difference between the currently traded contract (September) and the future contract (December). At the same time, we also observe a change in liquidity in the contracts (which remains relatively low). Already at this moment, there are more open positions on the December contract, and the trading volume is also higher on the December contract. This is related, among other things, to the fact that traders do not want to pay the higher price currently, use stocks, and want to take advantage of lower future prices, which are related to the expected improvement in the supply situation.

Liquidity is increasing on the December contract and starting to decrease on the September contract. Source: Bloomberg Finance LP, XTB

It is worth noting that the difference between the September and December contracts has significantly increased over the past 3 months (current curve white line, previous curve pink line). Source: Bloomberg Finance LP, XTB

The current backwardation in the market is also the largest in history. Of course, in recent times, it has happened that the difference between contracts during expiration was around 1000 USD, but at this moment it reaches almost 1500 USD. Why such strong backwardation in the market? At this moment, we have a strong deficit, so sellers do not want to get a low price because they had to pay more for the cocoa itself. If someone wants to buy cocoa now because they do not have stocks, they have to reckon with a high price. On the other hand, if a trader can wait for the cocoa delivery, they know that future deliveries should improve, so they are willing to pay less. It is worth remembering that in December we will already be after the first harvests of the main season, so there will be significantly more cocoa on the market than now.

Large difference between the nearest contracts. Source: Bloomberg

How did the price react during previous such extreme differences between contracts? It is worth noting that a large difference occurred in mid-March and mid-May (respectively 1000 and 1200 dollars). Prices then rose very sharply, which was related to an increase in short-term demand. Will it be the same now? Currently, we are observing a clear rebound in contracts (an increase of over 1000 USD in the last 3 sessions). On the other hand, in previous cases, the occurrence of extreme backwardation occurred about 3-4 weeks before the planned rollover. Recently, backwardation has increased from 1000 to 1500 USD.

Source: Bloomberg Finance LP, XTB

Look at the chart:

Regardless of how the price will react after the rollover, it is worth noting that the price will be about 1500 USD lower tomorrow. At current prices, this will most likely be around 6900-7000 USD per ton. Therefore, important technical support at the level of 7000 USD, resulting from the 61.8 retracement of the entire upward wave from this year, may be maintained.

It is worth noting that after previous rollovers in April and June, the price increased by about 1700-2000 USD on the contract. This would mean that after the rollover to the level of 7000 USD per ton, the price could rise even to 9000 USD in the following sessions if the situation were to repeat. However, it is worth emphasizing that current expectations for the rest of the season indicate a strong return of supply, which may change the market situation. Technically, the key is support at 7000 USD and resistance at 8800-9000 USD.

Source: xStation5